What the Heck is Going on with Interest Rates?

With the Bank of England’s decision to hold off on any rate changes, we have seen the last round of interest rate decisions out of the way for the week. I thought I would do a quick recap of the interest rate surprises and forecasts for the major currencies.

US – Short term rates have been kept the same since last June at 5.25% by the FOMC. Inflation has been the main concern for the Fed, and a slowing economy has not deterred that focus. It’s pretty much a mixed environment for the Greenback with positive jobs data and ISM data this past week, but we also saw GDP revised lower and the Core PCE number come in weaker than expected. So, what’s in store for US interest rates in the near term? Well, traders are betting we won’t see a rate cut anytime soon as bonds rates increase and the US dollar rallies.

EU – The European Central Bank raised the short term rates 25 basis points to 4.00% this week as the market forecasted. Trichet’s comments after the interest rate change failed to signal of further hikes in 2008 as their forecasts on inflation remain unchanged. As far as 2007, traders are expecting the ECB to raise at least once more as he stated that monetary policy will remain on the “accommodative side” as Eurozone economic growth remains positive.

UK – The Bank of England’s Monetary Policy Committee decided to keep rates steady at 5.50% as expected by the markets. Economic data has been mixed in the UK as housing and retails sales data appear to be slowing while manufacturing and consumer confidence has been better than expected. While the BOE is concerned that the economy has not yet see the full of effect of the most recent rate changes, inflation will still be a concern. This will prompt market players to look for one more hike in 2007.

Japan – Japan continues to hold interest rates at 0.50%, the lowest amongst all major countries, and it looks like we won’t see a change anytime soon. Recent economic data has been mixed as capital expenditures and unemployment data are a positive surprise while manufacturing, retail sales, and average income data disappoint. It took the Bank of Japan a long time to get rates from 0.0% to 0.5%, and we probably won’t see another hike anytime soon as the Japanese economy continues to tread along with no sign of growth in the near future.

Australia – Market players were on the money this week as the RBA kept interest rates steady at 6.25%, but there are signs that they may not hold for much longer. The Australian economy is running at full speed as we saw an upside surprise in quarterly GDP and last month’s jobs data. Also, confidence in the housing market is strong by the rising number of new mortgages taken out. So, how long can they hold? Probably not too much longer as the economy continues to grow even after multiple rate hikes over the course of the past year.

New Zealand – The Reserve Bank of New Zealand surprised most economists with a 25 basis point hike to bring the official cash rate to 8.00% – the highest amongst all major currencies. Like their close neighbor Australia, the New Zealand economy is chugging along, even after two rate hikes this year. Market players are now wondering if the high interest rates and rising currency rates will stagger economic growth. Probably not enough anytime soon to take the RBNZ’s focus off a 1-3% inflation target.

Canada – Today, job growth data came in slightly under forecast, but the positive surprise in Trade Balance and housing starts compliments recent data that the Canadian economy is running strong. Probably the most telling evidence the we will see a rate hike in the very near future is the rising CPI data. Inflation has been steadily above the BOC’s target of 1-2% with April CPI clocking in at 2.5%. Traders will look for a 25 basis point hike in July to raise rates from 4.25% to 4.50%.

  • rhodytrader

    Economists might have been surprised by the Kiwi rate hike, but the market clearly wasn’t. NZD/USD barely moved after the announcement. It had run up about 300 pips in the week or so beforehand, though!

  • rhodytrader

    Economists might have been surprised by the Kiwi rate hike, but the market clearly wasn’t. NZD/USD barely moved after the announcement. It had run up about 300 pips in the week or so beforehand, though!

  • mdetlh

    Its the breaking of a tradinng range in the US bond market. link to investors.com has bond market end of day prices, and as recently as two weeks ago the bond market has broken a trading range of around 4.6%-4.8% over the last 6-9 months. With the yield just now hitting over 5 %, it is time to stop speculating that the Euro will pass up the USD in yields, cuz they were betting on a USA rate cut of up to 3 times back in March. Now the market thinks that there is a chance of the US yields differential growing bigger rather than contracting, so the USD should rally to below 1.30 by the end of the year.

  • mdetlh

    Its the breaking of a tradinng range in the US bond market. link to investors.com has bond market end of day prices, and as recently as two weeks ago the bond market has broken a trading range of around 4.6%-4.8% over the last 6-9 months. With the yield just now hitting over 5 %, it is time to stop speculating that the Euro will pass up the USD in yields, cuz they were betting on a USA rate cut of up to 3 times back in March. Now the market thinks that there is a chance of the US yields differential growing bigger rather than contracting, so the USD should rally to below 1.30 by the end of the year.